FHA construction loan or rehab loan: Which one is right for you?
An FHA construction loan is one of the most common types of FHA loan programs. If you are in search of such a loan, the chances are that you are at an exciting stage and you are probably working on a significant project. Such loans are usually taken to embark on the construction of a structure that will most likely change your life and make you the envy of your friends, relatives, and even neighbors.
Before embarking on this memorable journey, it is advised that you find out few things about the different types of FHA construction loans to decide on the most suitable one for you. The two basic categories of loans are as follows:
– A Construction-Permanent Mortgage: This kind of mortgage loan is particularly suited for persons that want to buy a fresh site and are looking to build a new home from scratch.
– A 203(k) Rehab Mortgage: This is one loan that is suitable for persons that want to buy or refinance an existing home requiring modernization, repair, or even rebuilding. It is worth noting that this type of loan usually comes in two subcategories.
Typical features of the different FHA Construction Loan types
The primary benefit of these loan programs is that they integrate purchase and construction costs in one mortgage loan. Consequently, borrowers only have to borrow once, as opposed to taking up a short-term home loan for buying a site and doing the needed construction work, subsequently repaying the loan by borrowing again, you only have to borrow once. This also helps to reduce the administrative work, stress, fees, and other closing costs involved in taking up a loan. However, it is worth noting that the rate might be sometimes higher.
For those that do not know, “FHA” stands for Federal Housing Administration, a part of the U.S. Department of Housing and Urban Development (HUD) charged with the responsibility of guaranteeing mortgage loans made by private lenders to borrowers.
It is worth noting that the same eligibility rules apply to virtually all FHA-backed mortgages. The rules include loan-to-value ratios, borrowers’ credit thresholds, and caps on the total amounts that may be borrowed.
Construction to Permanent Mortgage
According to the HUD’s website, a construction-to-permanent mortgage is a combination of a construction loan, the traditional long-term permanent residential mortgage, and a short-term interim loan for financing the cost of construction.
Most homebuyers do not need mortgages as developers often buy the land and pay for the construction of the building. The homebuyer only has to apply for a mortgage to buy the property in the standard way. Construction-to-permanent mortgages are usually needed when the homebuyer hires the services of a contractor to build the home after purchasing a plot himself.
Another point that is noteworthy when talking about construction-to-permanent mortgage loans is that closing happens before the commencement of construction, which is usually after the purchase of land has been finalized. The funds for construction are held in an escrow account and are released at the achievement of every milestone. The Federal Housing Authority usually requires a final inspection or certificate of occupancy from an appropriate body at the completion of the project.
203(k) Rehab Mortgage
- A streamlined program provides as much as $35,000 for improvements, repairs, and upgrades. “Home buyers can make their new home move-in ready by remodeling the kitchen, painting the interior or purchasing new carpet,” says the HUD.
- The standard program is designed for more significant projects and sometimes takes the form of refinancing or a purchase. Homes that are to be demolished and rebuilt may also qualify for the loan, as long as the foundation is intact.
Both loans have a minimum budget of $5,000 for improvements.
How to find an FHA Construction Loan
The two types of FHA construction loan have some complexities that most lenders detest. The construction-permanent mortgages have been discovered to be relatively rare, compared to the other loan type, with many loan officers denying their existence. This could either be as a result of their ignorance or their desire to avoid them.